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Budget fails to cheer fund industry

Changes announced on Thursday in how the government taxes dividends will prompt investors to shift from the income to the growth option offered by mutual funds, according to fund managers.

Finance Minister Yashwant Sinha, in presenting the Union Budget for 2002-03 to Parliament, said the government would stop collecting from companies and mutual funds a 10 per cent tax on dividends, and instead tax the payout as individual income.

Until now dividend income has been tax free.

"High net worth individuals are now likely to prefer the growth option in a fund rather than the dividend option," said Zurich India Mutual Fund president S V Prasad, who manages Rs 24 billion.

In India, mutual funds offer investors two options -- a dividend payout or capital appreciation through reinvested earnings.

The Indian mutual fund industry has over 400 open-and-closed ended schemes in the equity, debt and balanced fund categories, managing close to $21 billion in assets.

"The Budget is not very positive for the fund industry," said Ved Prakash Chaturvedi, CEO of Tata TD Waterhouse AMC. "The removal of dividend taxation benefits will be a short-term negative."

But Gul Teckchandani, chief investment officer at Sun F&C Mutual Fund, said other changes announced in the Budget may lead more investors, who face reduced investment options, to turn to mutual funds.

"The cut in administered interest rates and the cap on investments in tax-free bonds would force retail investors to look at debt and equity mutual funds as alternative investment options," said Teckchandani, who oversees $200 million.

In his Budget speech to Parliament, the finance minister announced a half-percentage point cut in interest rates paid on government-run savings schemes.

This leaves popular schemes such as the Public Provident Fund earning 9.0 per cent and the Reserve Bank of India relief bond 8.0 per cent.

The high returns on these tax-free schemes had impeded the easy monetary policy the central bank is pursuing to revive the sluggish economy, forcing banks to keep their deposit rates high, while also adding to the government's debt servicing burden.

Sinha also limited the amount that can be invested in Reserve Bank-administered relief bonds.

"A high-yielding, risk-free choice for big ticket investors is over," said Dhirendra Kumar, managing director at fund tracking firm Value Research.

In one of the few positive elements for the mutual fund industry, Sinha announced funds would be allowed to invest in foreign government bonds. But analysts said that change will benefit only a section of the industry.

"The proposal will help AMCs (asset management companies) having foreign parentage and expertise in such markets," said R Balakrishnan, chief executive of First India AMC.

PTI

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